A Form 1099-Q will be issued for the distribution.
See this TurboTax website for more information - https://turbotax.intuit.com/tax-tips/college-and-education/guide-to-irs-form-1099-q-payments-from-qu...
Q. How does the IRS know I used a Coverdell (CESA) distribution to pay school expenses?
A. They don't know. It's a flaw in the tax filing procedure. There is no IRS form for you to fill out showing that you had a qualified CESA distribution (you used the money to pay qualified educational expenses). Even when the CESA administrator sends the money directly to the school, there is nowhere to indicate that on the IRS forms.
You can just not report the 1099-Q, at all, if your student-beneficiary has sufficient educational expenses, to cover the distribution. When the box 1 amount on form 1099-Q is fully covered by expenses, TurboTax will enter nothing about the 1099-Q on the actual tax forms. But, it will prepare a 1099-Q worksheet for your records, if you ever need it to reply to an IRS inquiry.*
- On form 1099-Q, instructions to the recipient reads: "Nontaxable distributions from CESAs and QTPs are not required to be reported on your income tax return. You must determine the taxability of any distribution."
- IRS Pub 970 states: “Generally, distributions are tax free if they aren't more than the beneficiary's AQEE (Adjusted qualified educational expenses) for the year. Don't report tax-free distributions (including qualifying rollovers) on your tax return”.
You would still have to do the math to see if there were enough expenses left over for you to claim the tuition credit. You also cannot count expenses that were paid by tax free scholarships. You cannot double dip!
*At least two users, in this forum, have reported receiving a CP2000 letter, from the IRS, on 529/CESA distributions. They replied that their child was in college and the distributions were for qualified expenses, which they listed, but they did not provide receipts.. They later received notices saying they were in the clear. Others have reported that just sending copies of school's billing and payment statements satisfied the IRS. We have noticed, here in this forum, that the number of posts, about 1099-Q notices (CP2000), from the IRS has dropped off significantly in recent years.
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